Huge International Growth Versus Value Disparity

There are no laws of science governing investments but there are some frequently observed, on-going tendencies. One of those tendencies is that over many years, growth investing and value investing tend to converge in terms of financial performance with a slight edge noted for value investing. While definitions of each investing style can vary, growth investing usually refers to selecting the subset of available stocks that seem to be growing sales and profits at a rate that is higher than the market as a whole. Often, these are companies that are relatively young and earlier in their life cycles. Conversely, value stocks tend to be older, more mature companies that have well-established market positions and more predictable dividends and cash flows. Since investors seek increasing profit growth, they bid up the prices of growth stocks with the result being higher readings for accounting valuation measures such as price-to-earnings, price-to-sales and price-to-book value. Conversely, value stocks sport lower ratios for such valuation measures and are sometimes termed “bargain basement stocks.” Each style has extended periods when it outperforms but very long-term performance (20-30 years and up) has tended to converge to somewhat similar results for both styles. Since value stock prices are generally less volatile (a measure of risk), their similar returns accompanied with lower risk causes academicians to give them the edge when comparing the “risk-adjusted” performance of these two investing styles.

As noted earlier, each investing style experiences periods of time when it is “leading the pack”. These leadership periods often last several years but eventually they change places. However, in the international stock markets, we are currently seeing such a lengthy outperformance by growth stocks that some investment pundits are wondering if perhaps the rules are changing. The Morgan Stanley Capital International Europe Australasia Far East (MSCI EAFE) Indices are often used to represent the performance of the developed world’s stock markets with the United States and Canada excluded. MSCI further divides this aggregate index into a “growth” subset and a “value” subset. These are the performance (average annual returns) results of both index subsets as of April 30, 2020.

Perusing the table reveals some noteworthy observations. For one, the performance returns of international stocks as a whole have been lackluster for the past ten years but this is especially the case for the “value” subset of the international stock universe. When one considers that the ten year average annual returns deficiency of over 4% (6.02%-1.93%) gets compounded over a decade, the accumulated performance gap is huge. For many investors, it is enough to cause them to avoid all international value stocks.

Should they? History suggests that this might cost them money. While ten years might seem to be a long enough evaluation period, MSCI can track the performance of these two EAFE subsets back to December 31, 1974. The winner over this nearly 45 year period?  The MSCI EAFE Value Index with an average annual return of 10.56%!!  it handily beat the equivalent Growth index average annual return of 8.58%.

It’s been said that “every dog has his day” and international value investors have to be wondering when theirs will arrive.  It’s also easy to understand why stock investors must maintain a (very) long term perspective!!